The Operation Of Private Health Insurance In Australia

Medicine, Nursing and Health SciencesThe Operation ofPrivate Health Insurancein AustraliaProfessor Just StoelwinderChair of Health Services ManagementSchool of Public Health & Preventive MedicineMonash UniversitySeptember 2014

BackgroundSince it’s European foundation Australia hasPrivate Health Insurance (PHI) continueshad a mixed public/private health care system.to operate as a supplement and duplicate of thePrivate health insurance has its roots in theMedicare public system. In macro funding termsFriendly Societies established in the midPHI accounts for some 11% of total19 Century and voluntary funds in the midhealth spending.th20 Century. Compulsory universal healthth“insurance” (Medibank) was established in1975 by the Labor government and reaffirmedin 1985 as Medicare. This scheme coveringall residents is funded primarily by theCommonwealth from general revenue andfunds the Pharmaceutical Benefits Scheme(PBS) the Medical Benefits Scheme (MBS)and free care in public hospitals (operatedThe main political parties have shown long-termcommitment to both Medicare and PHI, with theLabor Party tending to place policy emphasison Medicare and the conservative Coalition onencouraging PHI through initiatives such as apremium subsidy (rebate), lifetime health coverand an income related tax surcharge for thosewithout PHI.by State Governments).The Operation of Private Health Insurance in Australia1

PHI in Australia – How it works at presentThe operation of PHI in Australia is governed byHospital cover: these policies may includethe Private Health Insurance Act 2007.restrictions limiting the coverage of certainThe Act:a) “provides incentives to encourage peopleto have private health insurance; andb) sets out rules governing private healthinsurance products; andc) imposes requirements about howinsurers conduct health insurancebusiness.”conditions or services and hence potential largeout-of-pocket expenses and/or exclusions in whichspecified conditions or services may not be coveredat all. On the basis of these product featuresHospital policies are classified as: Top Private Hospital Cover – covering all servicesfor which Medicare pays a benefit; Medium Private Hospital Cover – excludes orrestricts one or more of the following: pregnancy,Incentives incorporate the rebate (currentlyassisted reproductive services, cataract andmeans tested), lifetime health cover andlens procedures, joint replacement, dialysis,surcharge referred to above.sterilisation.Rules require PHI policies be community- Basic Private Hospital Cover – excludes orrated with open-enrolment (the latter excludesrestricts one or more of: cardiac and related“restricted funds” offered only to members ofservices, non-cosmetic plastic surgery,a specific industry or group and often theirrehabilitation, psychiatric services, palliative care.families). Community rating means that everyonepurchasing the same policy is charged the samepremium, irrespective of their health care risk(unlike risk rating, used in general insurance, Public Hospital Cover – covers default benefitsfor treatment as a private patient in a publichospital only.in which premiums for the same insuranceAs at June 2014 there were only 11,595 “hospitalproduct can be adjusted for the predicted risktreatment only” policies, 19% with exclusions andof the policy holder). Discounts on premiums of79% with excess and co-payments.up to 12% are allowed. Open enrolment meansfunds cannot refuse to insure a person on anypolicy they offer to the general public, nor refuseto re-insure them. The purpose of these rulesis to maintain affordability of PHI, by low-riskmembers cross-subsidising high-risk members.PHI productsPermitted coverage by PHI is restricted tohospital admissions as a private patient in privateand public hospitals, the payment gap above theMBS for associated medical fees and specifiedGeneral treatment cover (Extras or Ancillaries): thesepolicies may include a range of treatments includingdental (at various levels), optical, physiotherapy,podiatry, psychology, hearing aids. General treatmentcover policies are sold as “General Treatment Only”(0.9 million policies) or in combination with Hospitalcover (5.37 million policies).Ambulance cover: may be sold alone (215,000policies) or in combination with General andHospital cover. Arrangements differ in the differentStates.hospital substitution and chronic diseaseExcess: policies may include an excess (front-endmanagement programs (Broader Health Cover);deductible) on a per episode, or annual basis of upGeneral treatment (Ancillary or Extras cover);to 500; offset against a reduced premium.and Ambulance.The Operation of Private Health Insurance in Australia2

Of the 5.38 million Hospital and Hospital &General treatment Combined policies at JuneTable 1: Proportion of total claimscontributing to the ABP2014, 25.6% include exclusions of which 85%Age% of eligible benefitsincluded in ABP for th cover for pregnancy, but without joint70-7470%replacement is likely to be attractive to a75-7976%younger, hence actuarially predicted lower80-8478%85 82%include an excess or co-payment. 74.5% ofpolicies are non-exclusionary of which 77%include an excess or co-payment. (Policystatistics all sourced from PHIAC A ReportJun14)Restrictions and exclusions enable funds tostratify the risk pool. For example, a productcost, policy holder, while a policy with jointreplacement and without pregnancy will bemore attractive to older policy holders. MoreTo this pool is added the high cost claimantsexclusions and restrictions will likely result inpool (HCCP) made up of 82% of the benefitslower benefit costs and hence lower premiumsin excess of 50,000 per person (over themaking the product more attractive to new,preceding 12 months but excluding inclusionyounger entrants and switchers. This riskin previous quarter HCCP) above that alreadyselection is prevalent in the Australian PHIallocated according to the ABP, to determine themarket.‘Gross Deficit”. HCCP for all its complexity is aRisk equalisationTo mitigate some of the effects of risk selectionminor component of the RE pool, representingless than 2% and is not considered further in themodel below.the Act establishes a risk equalisation (RE)The Gross Deficit (i.e. claim included in theregime operated according to a set of rulesRE pool) is then divided by the total averagepromulgated by the Minister. In essence itSingle Equivalent Units (SEU) in the State poolinvolves claims sharing between funds operatingto calculate the average Deficit per SEU. (Eachin State based markets. A variable percentage ofpolicy with 2 or more adults and/or childrenexperienced claims in set age bands are pooledcounts as 2 SEUs, with a single adult, or policiesinto an aged based pool (ABP).without an adult counting as 1 SEU.) Multiplyingthis average Deficit per SEU by a fund’s marketshare of SEUs determines the Calculated Deficit(i.e. the Gross deficit the fund would have if theclaims experience per SEU had been at theaverage of the pool, in other words, equalised).The Operation of Private Health Insurance in Australia3

The difference between the Calculated Deficitwith other funds, the distribution according toand the actual Gross Deficit is transferredtheir market share of SEUs. Appendix 1 showsbetween funds. Funds having claims less thanthe impact of Fund 1 reducing its claims for thisaverage (i.e. Calculated Deficit less than Grossage group by 1%, all other results unchanged.Deficit) cross-subsidise funds with claims aboveIn this example Fund 1 retains only 27.8% (itsaverage (i.e. Calculated Deficit greater thanmarket share of SEUs) of the savings in the REGross Deficit). In the hypothetical example belowpool. However, it retains 100% of the savings onFund 2 and the Rest of Industry, with a lowerclaim for this group outside the RE pool, so thatthan average Gross Deficit per SEU, are leviedoverall it retains 55.9% of its savings. Of course, 34,227,778 and 21,180,556 respectively, ait retains 100% of the savings in claims of thosetotal of 55,408,333, that is redistributed tounder 55 years and thus outside the RE regime.Fund 1.Table 2: Hypothetical RE calculation for a quarter for the total Australian pool.Fund 1Fund 2Rest of IndustryTOTALTotal Claims(of those age 55 and over) 620,000,000 85,000,000 1,200,000,000 1,905,000,000Gross Deficit(calculated at averageof 61% of Total Claims) 378,200,000 51,850,000 732,000,000 sAverage (Gross)Deficit per SEUCalculated Deficit(Average (Gross) Deficitper SEU * SEUs)Transfer(Gross Deficit lessCalculated Deficit) 215.194/SEU 322,791,667 86,077,778 753,180,556 1,162,050,000 55,408,333( 34,227,778)( 21,180,556)0In actuality the ABP varies as the CalculatedDeficit is influenced by relative changes inclaims, membership and age profiles betweenthe funds.Impact of RE on incentives toreduce claimsA consequence of the RE as currently structuredis that it reduces the incentive to control claimsamongst the 55 and over age group -- theRegulationPHI is regulated by both the Departmentof Health and the Private Health InsuranceAdministration Council (PHIAC).Department of HealthThe Department of Health administers thePrivate Health Insurance Act 2007 andassociated Rules. In doing so it issues formalPHI Circulars.main claimers and most amenable to diseaseThe Minister has the power to approve premiummanagement intervention. This occurs becauseprice increases, a process involving both thethe savings in the ABP are pooled and sharedDepartment and PHIAC. A key consideration inThe Operation of Private Health Insurance in Australia4

approving a fund’s proposed annual increase isIn the 2014-15 Budget the Governmentmaintaining capital adequacy of the fund, adviceannounced that PHIAC will be merged intoon which is provided by PHIAC. The processthe Australian Prudential Regulation Authorityfor price increases that went into effect on April(APRA) during this year.1, 2014 is described here with individual fundaverage increases here.The Private Health Insurance Ombudsman(PHIO)PHIACA statutory authority established to “protectThe prudential regulator of private healththe interests of private health insuranceinsurance in Australia has the responsibilityconsumers.” It handles complaints about health“to protect consumers of private healthinsurance and provides advice to governmentinsurance by ensuring an industry which isand the industry on its performance in regardcompetitive, efficient and financially sound.”to the same.It collects and publicly disseminates data fromfunds, including that required to operate theRE; sets and ensures compliance with capitaladequacy and prudential standards, conductseducation programs and coordinates with otherfinancial and competition regulators.The Operation of Private Health Insurance in Australia5

Appendix 1:Impact of Fund 1 saving 1% of Total claims for age 55 andover on RE calculation for the same quarter as Table 2.Fund 1Fund 2Rest of IndustryTOTALTotal Claims(of those age 55 and over) 613,800,000 85,000,000 1,200,000,000 1,898,800,000Gross Deficit(calculated at the currentaverage of 61% of Total Claims) 374,418,000 51,850,000 732,000,000 87.464.8100SEUsSEU market share (%)Average (Gross)Deficit per SEUCalculated Deficit(Average (Gross) Deficitper SEU * SEUs) 214.494/SEU 321,741,111 85,797,630 750,729,259 1,158,268,000 52,676,889( 33,947,630)( 18,729,259)0Saving on Total Claims 6,200,00000Savings outside ABP 2,418,00000Saving in ABP on Gross Deficit 3,782,00000Change to Transfer ammount( 2,731,444) 280,148 2,451,2960 1,050,555 280,148 2,451,296 3,782,00027.87.464.8 3,468,556 280,148 2,451,296 6,200,00055.94.539.5100Transfer(Gross Deficit lessCalculated Deficit)Net saving in ABP% of saving in ABP retainedTotal Saving retained(outside and within ABP)Total saving a % ofSavings on Total ClaimsThe Operation of Private Health Insurance in Australia6